How data is helping to usher in the green economy

The global response to climate and sustainability challenges is bringing about new regulatory approaches and changing consumer demands, spurring technological and business model innovation. Companies offering solutions that support the transition to a sustainable global economy are emerging and thriving in what may be referred to as this century’s industrial revolution: the emergence of the green economy. 

This green economy is growing rapidly. In our latest report assessing its size, we found it accounted for around 9.2% of global listed equity markets in the first half of 2023. This has risen from around 5% in 2015 and has grown at a compound annual growth rate of 13.3% over the past 10 years – significantly outpacing the 6.9% for global equity markets as whole.

And this is likely just the start.  Trillions more dollars of investment is required to flow into the green economy to meet global climate and environmental objectives. If this happens, we calculate that, by 2050, around 20% of revenues earned by listed companies would be ‘green’ – and the green economy would become the single largest industrial sector.

For investors, understanding and gaining exposure to the green economy is becoming central to their investment objectives. But doing so is far from straightforward.

Classifying industry sectors is an important element of financial market infrastructure. It helps investors and companies alike to share information, identify opportunities, allocate capital and measure growth.

How do we define the green economy? Unlike, say, the chemicals sector, the ‘green economy’ is not a universally-recognised industry sector. While it might be obvious that a company manufacturing wind turbines or electric vehicles is a green economy stock, there are many economic activities that contribute less obviously to the green economy.

At FTSE Russell, we have been tracking companies active in the green economy since 2008, when we launched the FTSE Environmental Technology index series. Our Green Revenue Classification System (GRCS) identifies 10 sectors, 62 sub-sectors and 133 micro-sectors which address climate change mitigation and adaptation, efficient water consumption and resource use, pollution control and agricultural efficiency. We also track the revenues that 18,000 companies generate from these 133 sectors, to map the growth of the global green economy.

Many of these sub-sectors may not be obviously environmentally-oriented. For example, Cloud computing and efficient IT both qualify, as do companies producing advanced materials, those engaged in efficient logistics systems, and food safety and efficient food processing. These sectors and others, such as those generating key inputs such as cobalt, lithium and rare earths, all have a contribution to make to creating a green economy.

Because green products and services have both positive and negative impacts, the GRCS also differentiates the level of ‘greenness’ into tiers. Tier 1, which accounts for around 51% of the green economy, includes activities with significant and clear environmental impacts, such as electric vehicles. Tier 2 covers those with more limited but net positive environmental impacts, such as large hydropower. This tier makes up around 43% of the green economy. Finally, tier 3 covers products and services which have some environmental impacts but are overall net neutral or negative, such as nuclear power generation. This tier makes up 6% of the green economy.

There is a range of uses to which this green economy data is being put. Most directly, it is used to construct a range of indices to provide exposure to the theme.

Green revenues data also underpins the FTSE Environmental Markets index series, which has been running since 2008. This series includes the FTSE Environmental Opportunities indices, which require companies to have at least 20% of their revenues from green economy products or services. For investors seeking ‘pure play’ exposure, the FTSE Environmental Technology indexes require constituents to have at least 50% green economy revenues. These index families form the basis of a range of investment products, providing low-cost exposure to the green economy theme.

Green revenues data is helping investors build portfolios around the climate theme, while closely tracking mainstream equity benchmarks. The data can be used to identify companies that benefit from green revenues, allowing investors the optionality to customise their respective portfolios. 

For example, the asset owner-led Transition Pathway Initiative (TPI) seeks to identify companies that are well-positioned for the transition to a net zero economy. Green revenues are one of the inputs into its forward-looking methodology, alongside carbon emissions performance and corporate governance of climate risk. The TPI’s research is used to construct the FTSE TPI Climate Transition Index, against which the Church of England Pensions Board has made a £600 million allocation.

Indices like these, and the investment funds and products that track them, use a transparent, rules-based methodology, which is objectively applied, can provide reassurance to market participants and other stakeholders that investment managers are providing products that support the emerging green economy. 

The research that FTSE Russell has undertaken to develop the Green Economy model also benefits corporate issuers with green revenues. Most importantly, it helps investors understand and identify the contribution these companies are making to the green economy, even for activities that might not be obviously ‘green’. This positions them to attract investors interested in creating exposure to the sector.

Some stock exchanges are supporting their green economy issuers with dedicated indices or initiatives. The London Stock Exchange, for example, has introduced its Green Economy Mark, which companies can claim if they derive more than 50% of their revenues from the green economy. More than 112 companies and funds have been given the mark and have delivered an average of 26% yearly growth in market capitalisation since 2020. Other exchanges are following suit and, earlier this year, the World Federation of Exchanges published its ‘Green Equity Principles’ to support these efforts.